Hayek’s guidance for western politicians on MidEast

Freedom fighters

In his final book, The Fatal Conceit: The Errors of Socialism, Freidrich von Hayek wrote that: “The curious task of economics is to demonstrate to men how little they really know about what they imagine they can design”.

Few people are more in need of one of Hayek’s lessons than western politicians.

Nearly two and half years ago civil unrest broke out in a number of Middle Eastern countries. An excitable western media, this generation of journalists eager for its own Fall of the Berlin Wall, soon christened it the ‘Arab Spring’.

How misguided this characterisation was quickly became apparent. Whereas the Prague Spring of 1968 had actually been about freedom the ‘Arab Spring’ saw unpleasant secular regimes elbowed aside only to be replaced with at least as unpleasant Islamist regimes.

Every use of the phrase ‘Arab Spring’ became an insult to those Czechs and Slovaks who had risked their lives for freedom. Eventually even the credulous journalists who had coined the phrase stopped using it.

While the regimes in Libya and Egypt quickly collapsed, the one in Syria put up a fight. A civil war broke out and settled into a bloody stalemate. On one side are the relatively secular, bloodthirsty Ba’athists led by Bashar Assad, on the other are the equally bloodthirsty Islamist; Al Qaeda inspired rebels.

There are deeper currents swirling in Syria. Assad and his Shia followers (as well as the non-Muslims who back him fearing the fate of their co-religionists in places like Morsi’s Islamised Egypt) are on opposite sides from the Sunni rebels of a schism that divides the Muslim world as the Thirty Years War did the Christian world.

Behind them, on either side, stand the Muslim world’s great Sunni power, Saudi Arabia; and its leading Shia power, Iran.

Of these two contending sides in the civil war in Islam, it is not immediately clear that we should be celebrating the victory of militant Sunnis. It is even less clear that we ought to be intervening to ensure it. Nevertheless, that is what we now appear to be drifting towards in Syria.

It is happening with a notable lack of enthusiasm in the west. When Britain went to war with Russia in 1854 a song became popular in music halls which went:

We don’t want to fight but by jingo if we do,

We’ve got the ships,

We’ve got the men,

We’ve got the money too

There is no such excitement now. Jaundiced western electorates seem to have a clearer appreciation than their leaders of the fact that in 2013 we have neither the ships, men, nor money for this adventure.

But politicians in the west have incredible faith in their own power. They are constructivist rationalists in the tradition of Descartes, possessed of the belief that with the judicious application of their power they can construct an optimal social order.

Armed with this belief David Cameron and Barack Obama appear to believe they can topple Assad, replace him with Syria’s version of Herman van Rompuy, and watch the country turn into West Germany.

This was the central fallacy of neo-conservatism. Contrary to Hayek, who believed that successful social orders emerge, neo-cons believed that order could be imposed or consciously constructed.

Despite the evidence of the last few years, our leaders’ Cartesian faith appears unshaken. There is a very real danger that in striving for an unattainable optimal solution they end up landing us with a situation which is worse than we have now.

This article originally appeared at The Commentator

Who’s the real traitor? Obama or Snowden


On Tuesday, January 20th 2009, in front of a crowd of over one million and assisted by Samuel L. Jackson, Oprah Winfrey, and Beyoncé Knowles, Barack Obama made the following pledge:

“I do solemnly swear that I will faithfully execute the Office of President of the United States, and will to the best of my Ability, preserve, protect and defend the Constitution of the United States.”

We do not know what sort of surroundings, how big an audience, or whether any celebrities were in attendance when Edward Snowden, on beginning his work for National Security Agency contractor Booz Allen Hamilton, swore two oaths: “The first oath,” said Andrew P. Napolitano, a former judge of the Superior Court of New Jersey, “was to keep secret the classified materials to which he would be exposed in his work as a spy; the second oath was to uphold the Constitution”.

Two very different men in very different circumstances had sworn to uphold the Constitution of the United States of America. That document’s Fourth Amendment reads:

“The right of the people to be secure in their persons, houses, papers, and effects, against unreasonable searches and seizures, shall not be violated, and no Warrants shall issue, but upon probable cause, supported by Oath or affirmation, and particularly describing the place to be searched, and the persons or things to be seized.”

One of these men totally disregarded this Amendment of the very Constitution he was sworn to uphold. Instead, he oversaw a ‘security’ apparatus which used a court order to demand that Verizon, a mobile phone company:

“shall produce to the National Security Agency (NSA) upon service of this Order, and continue production on an ongoing daily basis thereafter for the duration of this Order, unless otherwise ordered by the Court, an electronic copy of the following tangible things: all call detail records or “telephony metadata” created by Verizon for communications (i) between the United States and abroad; or (ii) wholly within the United States, including local telephone calls…Telephony metadata includes comprehensive communications routing information, including but not limited to session identifying information (e.g., originating and terminating telephone number, International Mobile Subscriber Identity (IMSI) number, International Mobile station Equipment Identity (IMEI) number, etc.), trunk identifier, telephone calling card numbers, and time and duration of call.”

IT IS FURTHER ORDERED that no person shall disclose to any other person that the FBI or NSA has sought or obtained tangible things under this Order…”

A program called PRISM gave “the US government access to a vast quantity of emails, chat logs and other data directly from the servers of nine internet companies. These include Google, Facebook, Microsoft, Yahoo, AOL and Apple”.

No “probable cause”, no “Oath or affirmation”, no description of “the place to be searched, and the persons or things to be seized”. Just the mass harvesting of data on the private communications of American citizens.

The other man, by contrast, when he found that one of his two oaths flatly contradicted the other, told people that this was going on, that the Constitution he had quietly sworn to uphold was being trampled on. And it is Edward Snowden, not Barack Obama, who is being branded a ‘traitor’ by all sides.

This article originally appeared at The Commentator

Bubble. Burst. Liquidity. Repeat

Increasing both

In March 2000 the dot com bubble burst. From a peak of 5,048.62 on March 10th, 24 percent up on late 1999, the NASDAQ Composite index had fallen to half that by late 2000. GDP growth slumped and unemployment steadily climbed from under 4 percent in late 2000 to a peak of 6.25 percent in mid-2003.

On January 3rd, 2001, Alan Greenspan acted and cut the Fed funds rate to 6 percent. By June 2003 it was down to 1 percent where it stayed until June 2004. The effects are well known. This wave of liquidity was directed by government action like the Community Reinvestment Act, government bodies like Fannie Mae and Freddie Mac, and a minefield of moral hazard in a financial sector which knew it would be bailed out of any trouble, into a housing bubble.

That bubble burst too. With inflation on its way up from 2 percent in mid-2003 to 4.7 percent in October 2005, Greenspan gradually raised the Fed funds rate, reaching 5.25 percent in June 2006. But this crippled many people who had borrowed at lower rates to buy property. The number of new foreclosure starts in the US increased by more than 50 percent to 1.1 million between 2006 and 2007.

Assets backed with these non-performing loans crashed in value. Banks holding them saw their balance sheets ravaged. Seeing counterparty risk everywhere, banks stopped lending to each other and the LIBOR, usually about 0.15 percent above where the market thinks the bank rate will be in three months’ time, shot up to over 6.5 percent in August 2007. The credit crunch had arrived.

And Greenspan, his academic successor Ben Bernanke, and central bankers around the world reacted as they had to the bursting of the dot com bubble. The Fed funds rate went back down from 5.25 percent in September 2007 to 0.25 percent in December 2008. Likewise, between July 2007 and March 2009 the Bank of England slashed its Base Rate from 5.75 percent to 0.5 percent. Even the supposedly cautious European Central Bank reduced its key rate from 4.25 percent in summer 2008 to 1 percent by the spring of 2009.

When this failed to have the desired stimulative effect central bankers began trying to pull down the long end of the yield curve. Under Quantitative Easing the Bank of England spent £375 billion of newly printed money on British government debt. The Federal Reserve is spending $85 billion dollars a month on bonds.

There is a pattern here. A bubble in assets (dot com stocks) bursts and central banks react by hosing liquidity into the system. But this liquidity inflates another bubble (property) and when that bursts central banks react by hosing liquidity into the system…

In the high Keynesian noon of the post-war period it was widely thought that monetary policy was ineffective for macroeconomic management (it is debatable how much this is actually owed to Keynes). All that could be hoped for from monetary authorities was support for the fiscal policies which really had the clout to equilibrate the economy.

But this Keynesian paradigm fell apart with the stagflation of the 1970s. Money mattered was the lesson and it became the primary tool of macroeconomic management, replacing fiscal action, at least until the ‘Return of the Master’ following the credit crunch.

But what has this meant in practice? As interest rates are lowered in response to an adverse shock investment, calculations change, especially when, like Alan Greenspan, those behind the policy publicly promise its continuance. To the extent that this fosters a wealth effect, consumption, as well as investment, may be stimulated. And this, in fact, is exactly the way the policy is supposed to work.

But the rates cannot stay that low indefinitely, nor, despite the jawboning by monetary policymakers, are they intended to. At some point they will rise. Again, this actually is the way the policy is supposed to work.

And when those rates do rise what happens to those marginal investors who made their decision when rates were at their lowest? What happened to the NINJAs who bought condos in Michigan when interest rates were 1 percent when the rates went up in 2006? They were scuppered. And what will happen to all the enterprises which are currently dependent on interest rates remaining at their historic lows when those rates start to rise? It is because more people are now asking that question that markets have turned skittish recently, since Ben Bernanke even began to discuss a possible future ‘tapering’ of Quantitative Easing.

Those rates will have to rise at some point. But, when they do, whichever bubble we have now will burst. Our monetary authorities have printed themselves into a corner.

This is what passes for macroeconomic management. As one of the high priests of this bubble-onomics, Paul Krugman, advised in 2002 in the wake of the dot com bust “To fight this recession the Fed needs…soaring household spending to offset moribund business investment…Alan Greenspan needs to create a housing bubble to replace the Nasdaq bubble”. And no, that’s not taken out of context.

One of the great myths in economics is that of some sort of stable equilibrium. It is apparent that active monetary policy is little better at producing that than fiscal policy proved. Instead the economy is characterised by crises of increasing frequency and amplitude and the only solutions policymakers appear to have to deal with them will buy ever shorter-lived respite at the cost of increasing both the frequency and amplitude of crises.

We are in an equilibrium of sorts, but it is an equilibrium of crises.

This article originally appeared at The Commentator

Living in the Age of Keynes


The path to prosperity

In 1935 John Maynard Keynes wrote to his friend George Bernard Shaw: “I believe myself to be writing a book on economic theory which will largely revolutionize, not I suppose at once but in the course of the next ten years – the way the world thinks about economic problems.”

That book, The General Theory of Employment, Interest and Money, published the following year, would go on to fully realise Keynes’s expectations. After World War Two, following Keynes’s analysis, policy makers and economists around the world used fiscal and monetary tools to pursue the goal of ‘full employment’. Keynes gave his name to both the economics and the age itself.

It is conventionally said that this Keynesian Age was brought to an end by the Stagflation of the 1970s. To the extent that responsibility for ‘economic management’ was simply transferred from politicians with primarily fiscal tools to central bankers with monetary tools this can be argued. But there is another sense in which we never left the Age of Keynes.

The first substantive chapter of The General Theory is chapter two, ‘The Postulates of the Classical Economics’. Here Keynes ridicules a set of beliefs which he ascribes to an ill-defined group of ‘Classical economists’. For these Classicals income was either spent on consumption or saved. These savings, as capital, were invested with the two quantities, savings and investment, being equilibrated by the interest rate. As Keynes’s Classical mentor Alfred Marshall put it:

“[I]t is a familiar economic axiom that a man purchases labour and commodities with that portion of his income which he saves just as much as he does with that he is said to spend. He is said to spend when he seeks to obtain present enjoyment from the services and commodities which he purchases. He is said to save when he causes the labour and the commodities which he purchases to be devoted to the production of wealth from which he expects to derive the means of enjoyment in the future.”

Keynes, by contrast, saw no such essential unity between savings and investment. In The General Theory he wrote that the “decisions which determine Saving and Investment respectively are taken by two different sets of people influenced by different sets of motives, each not paying very much attention to the other”.

It was possible, Keynes argued, that investors driven by mercurial “animal spirits” could become so pessimistic that the Marginal Efficiency of Capital (the expected return on their investment) could plunge below the interest rate (the cost of funding that investment) so that no investment would take place. The Marginal Efficiency of Capital could, indeed, sink so low that nominal interest rates couldn’t offset it, giving rise to the ‘liquidity trap’ and monetary impotence. Marshall’s link would be broken and aggregate demand would fall.

For Keynes, the way to guarantee the continued investment which not only guaranteed aggregate demand in the present but also increased prosperity in the future, was for the government to underwrite the profitability of investment by acting as spender of last resort, via fiscal stimulus, to prop up the Marginal Efficiency of Capital.

This was the polar opposite of the Classical view. Whereas Keynes believed that spending made you rich enough to save, the Classicals believed that saving made you rich enough to spend. Though Keynes would have agreed with the father of the Classicals, Adam Smith, that “Consumption is the sole end and purpose of all production”, they took totally different routes to get there.

This stems from a striking difference in attitudes to saving. Adam Smith, anticipating Marshall, wrote, “What is annually saved is as regularly consumed as what is annually spent, and nearly in the same time too; but it is consumed by a different set of people…by labourers, manufacturers, and artificers”. Keynes, by contrast, said that “whenever you save five shillings, you put a man out of work for a day”.

Is it Smith or Keynes’s attitude towards consumption and saving which animates western policymakers today? Since 2008 we are supposed to have seen ‘The Return of the Master’. In truth he never went away. We’ve been living in the Age of Keynes for decades.

This article originally appeared at The Commentator

IDS is the heir to Beveridge

A jolly nice chap

“Iain Duncan Smith is scum” announced a former friend of mine on her Facebook wall recently. Actually, as anyone who has met him will attest, IDS is a perfectly affable chap. But he is sceptical of the present size and nature of Britain’s welfare state. This, apparently, makes him “scum”.

Between 2001 and 2007 British government spending increased by 54 percent in real terms. In nominal terms the coalition is actually raising spending even further, from £661 billion in 2010 to a projected £729 billion in 2015. What cutting is being done is coming from above target inflation so that, in real terms, spending will fall by 2.7 percent. And remember, that’s a real terms cut of 2.7 percent after a real terms increase of 54 percent.

But the reaction from sections of the left to this bare snipping has, as with my former friend, been nothing short of demented.

Nick Cohen frequently says very sensible things but at the end of the day he writes for the Observer and he has to sing for his supper – hence a steady flow of silly articles about barely existent ‘austerity’ and mythical ‘Tory cuts’. In a recent article he wrote that “Iain Duncan Smith’s universal credit poses a serious threat to women’s independence.” You actually have to ask how independent someone who is dependent on state welfare actually is in the first place, but to have done so would have been to intrude on the usual orgy of hysteria which accompanied the article.

One of Cohen’s Facebook friends commented, “Yes, yes, yes. Duncan Smith has a nasty agenda, fired by his own sense of Christian mission. A very creepy man.” Another warned that “The Tories especially are making attacks on the poorest, that are remarkably similar to the sort of thing the eugenicists of the nineteenth century used to say.” Sections of the left are currently consumed with lunatic levels of fear and loathing.

It never seems to occur to these people that someone could question the present size and nature of Britain’s welfare state from any motivation other than pure evil. It never enters their minds that someone might be critical of the welfare state as it stands for the simple reason that it is a massively expensive failure.

“Flat rate of subsistence benefit; flat rate of contribution”;

“Unemployment benefit will…normally be subject to a condition of attendance at a work or training centre after a certain period”;

“National assistance (a means tested benefit) is an essential subsidiary method in the whole plan…The scope of assistance will be narrowed from the beginning and will diminish”;

“Assistance…must be felt to be something less desirable then insurance benefit; otherwise the insured persons get nothing for their contributions. Assistance therefore will be given always subject to proof of needs and examination of means; it will be subject also to any conditions as to behaviour which may seem likely to hasten restoration of earning capacity”;

“The proposal to adjust benefit according to the rent actually paid by individuals should, provisionally, be rejected”.

These quotes, recommending conditions on eligibility for welfare, proposing a reduction of benefits over time, supporting the notion that benefits must not match employment income, and rejecting housing benefit, do not come from someone like Iain Duncan Smith who the contemporary left would brand as evil. They come, in fact, from the Report of the Inter-Departmental Committee on Social Insurance and Allied Services of 1942, written by William Beveridge, which laid the foundations for the welfare state.

Beveridge’s plan was, as James Bartholomew writes,

“very simple. Everyone would make flat-rate contributions to a national insurance scheme. Those who fell ill, became unemployed or reached retirement age would, in return, receive flat rate payments. That is it. The rest was detail”.

John Maynard Keynes reportedly told his friend Beveridge: “The Chancellor of the Exchequer should thank his lucky stars that he has got off so cheap”.

Keynes was wrong. Over the years Beveridge’s safety net became a vast hammock. Since the welfare state got under way in earnest in 1948, social security spending as a percentage of GDP has increased from 4 percent to nearly 14 percent; a 250 percent increase.

Source: IFS

Those on the right and this coalition government are often accused of launching an attack on the welfare state bequeathed us by Beveridge and the Attlee government. That ship has long since sailed. Beveridge’s welfare state died decades ago when it became the bloated, expensive, counterproductive monster it is today. And it wasn’t the right that killed it, the left did.

There is a new film out by dreary, overrated Marxist Ken Loach titled The Spirit of ’45. In it, among other things, Loach calls for the Brits of 2013 to resist coalition welfare reforms and redouble their commitment to state welfare spending. But that is not the spirit of 1945. The spirit of 1945 was of work, contribution, and insurance.

And that appears to be the spirit of 2013 too. As a recent report by the National Conversation found: “Wherever they stood on the political spectrum, we were told that the welfare system was broken, and that no one party held the answer to fixing it… A key concern, shared by respondents from different backgrounds, was the degree to which the modern welfare system had moved away from Beveridge’s original plans for social insurance. With the gradual erosion of Beveridge’s contributory principle, governments found themselves paying out ever larger welfare disbursements to people who had never paid into the system”.

Sensing this even Ed Miliband has begun making noises about “recognising contribution”.

Iain Duncan Smith is not “scum”. Rather, unlike Loach and Cohen and his loony friends, he is the heir to Beveridge. If the spirit of ’45 lives on anywhere, it is in the coalition’s welfare reforms.

This article originally appeared at The Commentator

John Maynard Keynes, in the long run

John Maynard Keynes, 1883 – 1946

“In the long run we are all dead”. So said John Maynard Keynes, born 120 years ago on Wednesday, in one of the most misquoted phrases in economics.

It comes from Keynes’s Tract on Monetary Reform, from 1923, in a discussion about the economic long and short run. If a factory closes you can say that in the long run its workers will find jobs somewhere else but in the short run there may be considerable unemployment and it was this that Keynes was concerned to tackle. Thus, the full quote is: “But this long run is a misleading guide to current affairs. In the long run we are all dead. Economists set themselves too easy, too useless a task if in tempestuous seasons they can only tell us that when the storm is past the ocean is flat again.”

Indeed, Keynes thought much about the long run. One of his most celebrated pieces of writing was an essay titled The Economic Possibilities for Our Grandchildren (1930) and he was one of the architects of the post-World War II Bretton Woods monetary system.

But this isn’t to say that Keynes had any coherent idea about the long run. He didn’t. In The Economic Possibilities for Our Grandchildren he observed that, since the Industrial Revolution, “the average standard of life in Europe and the United States has been raised, I think, about fourfold” and predicted that “the standard of life in progressive countries one hundred years hence will be between four and eight times as high as it is today”. In large part he attributed this, correctly, to “the accumulation of capital which began in the sixteenth century”.

But this capital accumulation was simply assumed by Keynes, not analysed. In The General Theory of Employment, Interest and Money (1936) he speculates on the future possibility of “a society which finds itself so well equipped with capital that its marginal efficiency is zero and would be negative with any additional investment”, blithely asserting that it would be “comparatively easy to make capital-goods so abundant that the marginal efficiency of capital is zero”. The Solow growth model theorists are derided for their characterisation of technological change appearing exogenously as “manna from heaven” but that is exactly how Keynes conceptualised the accumulation of capital and capital goods.

In fact financial capital is that part of income not spent on current consumption; saving, in other words. Capital goods have to be produced and maintained. If they had no value, as Keynes posits in his Utopia, they would not be produced. Include the cost of maintaining them and they would be even less likely to be produced.

This lack of understanding of the process of capital accumulation, which he himself put front and centre of his theory of increasing wealth, was a constant in Keynes’s writings. In The Economic Consequences of the Peace (1919) Keynes wrote that, during the 19th century, which he later characterised as an “epoch of enormous economic progress”,

“There grew round the non-consumption of the cake all those instincts of puritanism which in other ages has withdrawn itself from the world and has neglected the arts of production as well as those of enjoyment. And so the cake increased; but to what end was not clearly contemplated. Individuals would be exhorted not so much to abstain as to defer, and to cultivate the pleasures of security and anticipation. Saving was for old age or for your children; but this was only in theory,—the virtue of the cake was that it was never to be consumed, neither by you nor by your children after you.”

This is drivel. The cake was consumed, not least by Keynes himself who wrote of the pre-1914 era that “The inhabitant of London could order by telephone, sipping his morning tea in bed, the various products of the whole earth, in such quantity as he may see fit, and reasonably expect their early delivery upon his doorstep”. And while Keynes was a-bed, per capita consumption of milk, meat, butter, sugar, and tea all rose between 1860 and 1913. The grandchildren and great grandchildren of those who had flocked to Milton’s “dark, satanic mills” in the early days of the Industrial Revolution were beginning to consume such soon-to-be-household names as Oxo, Lipton, Rowntree, and Pears.

The end, even if Keynes couldn’t see it, was to extend to the inhabitant of Stepney the opportunities enjoyed by the inhabitant of Bloomsbury. This was made possible, as Keynes recognised, by “the accumulation of capital” which came, as Keynes failed to recognise, from saving. Keynes, aping his friend Lytton Strachey, derided the Victorians for not consuming the cake in its entirety but they understood better than Keynes that it was out of those leftovers, those savings, that they would bake a bigger cake tomorrow.

Keynes was concerned about the long run but he had no conception of how we would get there. He simply extrapolated past trends into the future without stopping to consider what factors were at work behind those trends. To paraphrase, economists set themselves too easy, too useless a task if they simply tell us the ocean will be flat tomorrow without checking the forecasts.

By consuming the whole cake today without regard to the provision of tomorrow’s dinner, in Keynes’s long run we’d all be hungry.

This article originally appeared at The Commentator

Deficit and debt: Does anyone know the difference?

“OK, so there’s the water in the tub…”

In a recent conversation, a Labour Party member told me that the coalition was “borrowing more than we did in power”. I pointed out that this was wrong, that the deficit, what we are “borrowing”, is, in fact, down by a third under this government. He replied: “The deficit may be but the current government is still borrowing more money than the last government.”

You could write this off as simply the pig-headed economic illiteracy of a paid-up member of the party that helped us into the current mess. After all, Ed Balls, Labour’s man on the economy, can stand up in front of Parliament and say “The national deficit is not rising…er…is rising, not falling” (he was right the first time). But then you hear Nick Clegg say that the coalition is working to “wipe the slate clean for our children and our grandchildren”. Even David Cameron himself announced that “We’re paying down Britain’s debts”.

You begin to wonder if anyone knows what they are talking about. I’ve addressed the issue of what exactly is happening to the British government’s finances before but it seems it needs repeating.

We have two concepts here: a stock and a flow. Think of it like a bathtub. The stock is the water in the bathtub, the flow is the water either flowing in or out of the tub through the taps or plughole.

In this analogy the debt is the stock, the water in the tub; the deficit is the flow, the water pouring in from the tap (if our government was running a budget surplus water would be flowing out through the plughole but we’re some way off worrying about that). In other words, the deficit (flow) is the amount by which the debt (stock) is increasing.

Thus, it is possible to have a situation like we have now where the debt is increasing while the deficit is decreasing (imagine yourself turning off the tap and seeing the flow of water dwindle – water is still flowing into the tub). Borrowing is down, what has been borrowed is up.

In the final year of the last Labour government Alistair Darling borrowed £156 billion. In 2012 George Osborne borrowed £99 billion. The deficit had fallen but while ever there is any deficit at all debt will be rising. Another way of putting it is to say that in his last year Darling increased the debt by £156 billion and last year Osborne increased it by £99 billion.

This is why you can have a chart like this…

showing falling deficits coexisting with a chart like this…

showing rising debt.

This might all sound a rather long-winded way of stating the obvious but a ComRes poll late last year found that 49 percent of people wrongly think “The Coalition Government is planning to REDUCE the national debt by around £600 billion between 2010 and the end of this Parliament in 2015”. The correct answer, that “The Coalition Government is planning to INCREASE the national debt by around £600 billion between 2010 and the end of this Parliament in 2015”, was given by just 6 percent.

The British government’s out of control spending is the central issue in British politics today yet there is mass ignorance as to what is really going on with it. In large part this can be attributed to the misleading statements pumped out by the sloppy Cameron and Clegg and the dishonest Balls.

What actually is happening to the British government’s finances under Cameron and Clegg is that the debt is growing and will continue to grow but the pace at which it grows, the deficit, is declining. This is simple stuff even if our politicians struggle with it.

This article originally appeared at The Commentator

First principles on wealth and economic growth

Shanghai – Before and after

In all human history there have been just four ways of securing the goods, services, or the wealth to purchase them, required to maintain life or a desired standard of living.

First, we can receive them freely from others as gifts or charity. Second, we can take them from others as theft or tax. Third, we can borrow them from others with the promise of repayment in the future. And fourth, we can receive them freely in exchange for a good and service we provide in return.

It is clear that the first and second methods depend entirely on someone else producing the good or service in the first place. You cannot be gifted or steal what doesn’t exist. These methods are purely redistributive and add nothing to the available stock of goods and services, the increase of which is the essence of economic growth and increasing wealth.

Method three, borrowing, is fine as long as it is used for investment to increase the stock of goods and services out of which it will be repaid. The fourth method, free production and exchange, is best of all. People secure the goods and services needed or desired by exchanging those they produce for those produced by others. People’s desire to consume more induces them to produce more. The stock of goods and services available, society’s wealth, increases.

All societies engage in a mixture of these methods, different sections of those societies relying on different methods at different times. But it is clear that societies which rely to a greater extent on the first and second method are, at best, shuffling round a stagnant stock of goods; not creating wealth but merely redistributing it.

Societies using more of the third method could be acting wisely if they are borrowing to invest, but if they are just borrowing to fund current consumption then they will be paying this back out of the same (or smaller) stock in the future. Societies more reliant on the fourth method will be increasing their wealth unambiguously.

So we can say that if the aim of society is to increase wealth it ought to be utilising lots of the fourth method, the third method only to fund investment, and the first second method as little as possible.

This throws stark light on the shift in relative wealth going on in the world today. Wealth is increasing in Asia in part because relatively large proportions of their populations are producing things people want to buy. And, in part, the wealth of the western economies is stagnating or declining because, relatively, we have a greater share of our populations receiving the goods and services they need and desire (or the wealth to purchase them) as transfers from others. We see ever more borrowing to finance current spending and ever more redistribution of wealth at the expense of its creation.

If a country has a great many goods and services available it is wealthy. If individuals are able to command a great deal of goods and services they are wealthy. The nature of increased wealth is an increased number of goods and services. The more people we have producing them and increasing this number, as in Asia, the wealthier we will be.

This article originally appeared at The Commentator

The truth about Thatcher and the steel industry

There’s an old saying: “A lie told often enough becomes the truth”. It’s one ‘comedian’ and former Socialist Workers Party member Mark Steel should know well, it comes from Lenin after all, and he certainly seems to be taking it to heart.

Steel’s recent piece for The Independent is titled ‘You can’t just shut us up now that Margaret Thatcher’s dead’. Oh, that we could! Steel has, after all, built a career out of the sort of dated, unamusing jokes about Thatcher that guarantee you steady work at the BBC. Personally I don’t know why the Indy hasn’t given Tim Vine column inches to opine on deindustrialisation, at least he’s funny.

And it wasn’t long before Steel broke out the Big Lie: “in 1980 Margaret Thatcher’s government shut down most of the steel industry, as part of her plan to break the unions”. You hear this argument a lot, as though repeating it will make it true. But a look at the facts shows that it isn’t.

In 1955 the British steel industry was working at 98 percent of capacity. But, over the following years, this declined as a result of its failure to adopt new methods (such as the basic oxygen steel-making process and continuous casting) and increased steel production in other countries. By 1966 just 79 percent of capacity was being utilised.

The following year a large chunk of the British steel industry was renationalised (it had been nationalised for a few years in the early 1950s). In 1970 the new British Steel had a record output of 23.8 million tonnes (4.7 percent of the world total, down from 25 percent in 1929).

But the industry was now being run for political rather than economic ends and massive over-manning and consequent low productivity became endemic. By 1977 output had actually fallen to 20 million tonnes (3 percent of the world total). By 1978 British Steel was operating at just two-thirds capacity. And by 1979, British steel workers were a third less productive than their French competitors and 40 percent less productive than West German steel workers.

In the fiscal year 1978-1979 British Steel lost £309 million. This rose to £545 million the following year, one in which workers struck for six weeks for a 20 percent pay rise. They got it, but my dad, who worked in a steel works in Sheffield at the time, said that by the time they went back to work their foreign customers had gone elsewhere.

In 1980-1981, British Steel lost a staggering £1 billion on turnover of £3 billion, earning itself a place in the Guinness Book of Records. By contrast the output of Britain’s small private sector steel industry doubled between 1967 and 1979, from 3 million tonnes to 6 million tonnes.

Between 1967 and 1974 employment in the British steel industry fell from 250,000 to 197,000. And by 1990 it had fallen again by 74 percent to 51,000. But other developed countries also saw drastic declines in employment in their steel industries in the same period. In France, for example, employment fell by 70 percent, while in the United States it fell by 60 percent. Even Germany lost 46 percent of its steel workforce.

What happened to towns like Sheffield or Corby was not part of some Thatcherite vendetta and instead was part of a general trend across the industrialised world. It happened in the Rhur Valley and Ohio, was Maggie Thatcher responsible for that too?

And given that the British steel industry’s problem was chronic over-manning, which caused low productivity, it is, sadly, fantasy to suggest that there was some painless cure that didn’t involve a reduction in employment.

Indeed, in the following years British Steel recovered. Whereas in 1976-1977 it had taken a British steelworker 15 man hours to produce a tonne of liquid steel, by 1986-1987 it took just 6.2 man hours and that year British Steel turned a profit of £177 million on turnover of £3.5 billion. When the company was privatised the following year it had made a profit of £410 million on turnover of £4.1 billion. By 1997 British Steel was the most profitable integrated steel company on the planet.

So British Steel was not shut down by Thatcher “as part of her plan to break the unions”; it was privatised because it was an economic basket case. Like the coal industry it was dying by the time she got elected.

This is the truth behind the Big Lie. That industries like steel and coal were ravaged is true. That it was painful for those involved is also true. But that it happened simply because Margaret Thatcher wanted to “break the unions” is false.

But maybe I’m missing the point with all this. That was certainly the opinion of some people I spoke with recently when I explained the advanced state of decrepitude the coal industry was in when Thatcher took over. “Oooooooh facts and figures. Go on then, how many miles have you walked in pit boots?” said one. Another said I was “someone who tries to hide behind certain facts and figures without giving the whole truth of the situation”.

It’s a curious argument to suggest one can get a better view of “the whole truth of the situation” by walking around in “pit boots” rather than looking at the entire industry and the economy as a whole. But then these people were from an area heavily affected by all this. For some the strength of that experience, reinforced by repetition over the years, has compromised their ability to examine the issue rationally. This is not to ignore what they say; experience is valid and should be recorded as such, but it should not be mistaken for analysis.

Perhaps Mark Steel isn’t being deliberately dishonest and this applies to him too. I’ve no idea and little inclination to find out. But you can’t blame a guy who trades on hating Margaret Thatcher for giving his routine one last airing. After all, when Maggie Thatcher died so did half of Mark Steel’s act.

I am indebted to the article ‘The British Iron and Steel Industry Since 1945’ by Alasdair M. Blair

This article originally appeared at The Commentator

Britain’s productivity paradox

In 2012 the British economy created 580,000 new jobs yet output stagnated; more work produced the same amount of stuff. Indeed, British workers were producing 2.6 percent per hour less in Q3 2012 than in Q1 2008. Labour productivity is now 12.8 percent below its pre-recession trend.

This phenomenon, of increasing inputs producing an unchanged or decreasing amount of output, which has been christened Britain’s ‘productivity puzzle’, is one of the most perplexing in current economic debate. Indeed, even Nobel laureate Paul Krugman recently declared himself stumped.  

It’s an important debate both politically and economically. Politically, because Labour can point to grim GDP figures and claim the coalition is failing while the coalition can point to impressive job growth and claim they are succeeding. Economically, because increasing productivity, producing as much with less or more with as much, is the root of increasing wealth.

The Institute for Fiscal Studies recently offered three explanations for this decline in labour productivity. First, the fall in real wages thanks to inflation has seen firms retain and/or take on more labour. Second, business investment remains 16 percent below the pre-crash peak giving workers fewer tools to work with. Third, record low interest rates and forbearance on the part of banks is propping up inefficient enterprises.

There is a grain of truth in all these explanations but we might be missing the wood for the trees. Perhaps the actual explanation for the productivity puzzle is both simpler and more profound. Labour productivity is determined by two things: the skill of labour, and the quantity and quality of the capital at the disposal of that labour. On both fronts Britain has done pretty poorly.

Britain’s labour force is losing its qualitative advantage over others, notably in East Asia, thanks to a hideously dysfunctional state education system. According to the Programme for International Student Assessment which compares students across countries, in 2000 Britain ranked 7th in reading, 8th in maths and 4th in science. By 2008 it had slumped to 17th in reading, 24th in maths, and 14th in science. Any measures which can improve this dismal performance could be expected to improve British labour productivity in the longer term.

It is a similar story regarding the capital available to its workers. In 2001 it was estimated that a British worker had 25 percent less capital to work with than an American worker, 40 percent less than a French worker, and 60 percent less than a German worker. Why is capital so vital and how might we get more of it?

There are two types of goods: capital goods and consumption goods. Consumption goods are those that immediately meet our needs, what Carl Menger called “goods of first order”. Capital goods, what Menger called “goods of higher order”, are those which meet our needs indirectly. Bread is a consumption good, the flour and the milling stone (among others) are capital goods.

If our need is to eat we can satisfy it immediately via the labour intensive method of picking apples from trees or berries from bushes. Obviously this source of food would sustain very many less people on much more monotonous diets than we have today. We are able to eat more and better because we have capital which enables us not only to produce and consume more but also to produce and consume things we couldn’t have before with purely labour intensive methods.

Thus, to borrow Murray Rothbard’s example, Robinson Crusoe could pick 20 berries per hour from a bush by hand but could shake 50 berries out in an hour with a stick. Alternatively Crusoe could make the milling stone, grind the flour, and undertake the other capital production needed to make a loaf of bread. He could enjoy something he couldn’t enjoy in any quantity at all previously.

But making the stick or the milling stone will take time, time we cannot spend either picking berries or relaxing. We must forgo an act of consumption, either of berries or of leisure. We must save, in other words. This is the essential truth of capital accumulation; it comes from saving.

So does maintenance of the capital stock. To borrow from Rothbard again, a truck with a working life of fifteen years which makes 3,000 trips can be said to be using up 1/3,000 of itself each time it participates in the transformation of bread from ‘higher order’ wholesale to ‘first order’ sandwich. If saving is not undertaken to allow for the replacement of the truck at the end of the fifteen years this production process will cease. The capital, the truck, will have been consumed in every loaf it carried on those 3,000 journeys.

This is why countries that grow rich are those that save; they accumulate the capital per worker which enables them to produce ever greater amounts. In the late 18th century British textile workers earned six times what Indian textile workers earned because they had the capital goods to make them six times more productive. This is why we see saving nations in the Far East becoming wealthier as we wonder how our current standard of living will be maintained.

Britain, meanwhile, has some of the lowest savings rates even in the generally savings-averse developed world. We are seemingly attached to the Keynesian idea that consumption, rather than something we do when we are rich, is something we do to become rich. We have a government which can hand out leaflets on budget day telling savers they are on their side while turning a blind eye to quantitative easing and 0.5 percent base rates.

The result is that by deskilling and capital consumption we have become a lower productivity, lower wage economy. There is only a puzzle because we are reluctant to face this grim truth. Greece was recently reclassified as an emerging market. Might Britain be on its way to joining her?    

This article originally appeared at The Commentator